The current price of ZIP Co. is $20. There is a put option for ZIP Co. with an exercise price of $18. The expiration date on this European option is in two months. The risk-free rate of interest over a month is .002 per month. In order to capture the volatility of ZIP Co., assume that in any month ZIP Co.’s stock price will either rise 20 percent or fall 40 percent.
(a) Write down the possible evolutions of the stock price for ZIP Co. on the binomial tree below.
(b) On the binomial tree below, fill in the blanks for the value of the European put at each node.